The offshore thing

Investors from the UK put more money into the Luxemburg-based funds of Franklin Templeton Investments and HSBC Investments than their onshore ranges which suggests that offshore funds are becoming an increasingly important part of the UK market.

Yet the UK market is divided in its use of offshore funds. Discretionary managers, private banks and fund of funds frequently hold offshore funds but the use of offshore funds is much less common among the mainstream IFA market.

This is reflected in the relatively limited number of offshore funds on platforms such as Cofunds and FundsNetwork.

The platforms argue that the number of offshore funds offered is driven by demand. Richard Eats of Cofunds says around 1 per cent of assets per month are invested in offshore funds on the platform. This comes more than a year after the first offshore funds were added to Cofunds.

The Investment Management Association says funds under management in offshore funds from UK investors totalled 16.4bn in February compared with 14.2bn in February 2007. This compared to 441.3bn in onshore funds.

Eats says: “The demand for offshore funds varies over time but it is relatively small. We do not see a large unsatisfied demand for offshore funds. If IFAs are interested in offshore funds, then we will put them on the platform. Where we do find demand for offshore funds is in specialist areas, such as Indian and Chinese equities and international property.”

David Dalton-Brown, head of FundsNetwork, says: “To date, we have seen little demand for offshore funds from our core IFA user base, who seem very comfortable with the wide range of onshore funds available through platforms.”

Nevertheless, platforms believe there will be a growth in demand for offshore funds. Graham Bentley, head of investment marketing at Skandia UK, says this is because advisers are looking for the best funds wherever they are based. He says: “We do see demand for offshore funds increasing in popularity in the coming years, combined with an expectation that some major providers will increasingly launch sterling classes of offshore funds rather than onshore versions. Our approach to adding funds to the platform is likely to reflect this in the future.”

He adds that advisers are becoming “increasingly comfortable that the risks of investing offshore are perceived rather than real.

Dalton-Brown comments: “Providers will add more sterling share classes to offshore funds for commercial/economic/administrative reasons. Many providers are international and are seeking to grow on a cross-border basis.

“Therefore, it makes sense to have a simpler structure rather than one range of funds for UK and another for Europe. This will also help to increase demand for offshore funds.”

Despite this optimism, HSBC Investments believes it is platforms that are holding back demand for offshore funds. Andy Clark, managing director, wholesale, at HSBC Investments in the UK, says research shows that 84 per cent of IFAs would use more offshore funds if they could access them through platforms.

If this research is correct, then it suggests there is enough demand to warrant a greater range of offshore funds being added to platforms. Clark says: “Intermediaries surveyed were already using offshore funds but as a smaller proportion of their business, given the distribution issue.

“The research found that 92 per cent of interviewees currently use offshore funds, citing tax efficiency, client requests and the availability to diversify assets as the major reasons.

“But offshore funds still make up just 11 per cent of interviewees’ current investments. The research revealed that 54 per cent of intermediaries expected they would do more business in offshore funds in five years. More offshore funds need to be added to platforms to provide a level playing field with onshore funds.”

Other asset managers have enjoyed strong inflows into offshore funds but are cautious on whether there is a lot of untapped demand.

For example, Schroders head of marketing James Rainbow says: “We have not seen a significant increase in demand for offshore funds. Advisers and clients generally feel more confident and comfortable in using onshore funds and they already have a wide choice of onshore funds.”

After all, there are more than 2,000 onshore open ended funds in the UK so do investors need to turn to the offshore market for even greater choice?

Clark says it is arrogant to think that the best fund managers in the world are based in London and Edinburgh and manage onshore funds.

Robert Burdett, joint head of multi-manager at Thames River Capital, says he has invested in a number of offshore funds partly because many boutique and international asset managers have only one fund range that is domiciled in Dublin or Luxemburg.

He says: “There is an argument that there are enough funds in the UK but we are interested in quality rather than quantity and there are good quality funds in the offshore market.”

Chelsea Financial Services managing director Darius McDermott says offshore funds are particularly useful where clients want to invest in a theme at an early stage. He says: “In some cases, this is only possible through offshore funds. Examples include agriculture and India funds.

“Four years ago, we had clients phoning us to ask if they could invest in India funds but they were only available offshore. First State Investments was one of the first to launch an onshore India fund but this was not until 2006.

“Another example is the Allianz RCM Global EcoTrends fund, which was launched in Luxemburg before being offered in the UK as an onshore fund.

“The JO Hambro Capital Management European fund managed by Rod Marsden was not included on Cofunds before it was closed to new investors. We would have included it on our recommended list if it had been on Cofunds.”

There is widespread agreement that much of the demand for offshore funds has been in specialist products. Rainbow says: “Our Luxemburg-based agriculture fund, which we have closed to new investors, is an example of a product with a unique selling proposition that means that people will buy it even though it is domiciled offshore. It is one of the few funds with a pure play in agriculture.

“Furthermore, agriculture has been an interesting investment market over the past 12 months and has attracted a lot of interest. In contrast, if you offer a general Europe ex UK fund, it is difficult to stand out as an offshore fund because there are so many onshore funds.”

But Bentley believes that platforms need to anticipate such demand rather than follow it.

What will increase demand for offshore funds? A key factor appears to be information and ease of access. This includes countering some views of offshore funds, such as their cost. Charges vary but big offshore funds have relatively low total expense ratios.

Clark says charges on offshore funds are generally comparable with onshore funds. “Most equity funds in our Luxemburg-based global investment funds range carry an annual management charge of between 1.25 per cent and 1.5 per cent, which is comparable with many onshore funds,” he says.

Franklin Templeton Investments sales and marketing director Jamie Hammond says: “Sales will increase through the mainstream IFA market if it is as easy as possible for them to buy offshore funds.

“As well as being listed on platforms, this includes administration, reporting and trading and valuations.

“It helps if funds have sterling share classes and have distributor status. To have distributor status, funds must distribute 85 per cent of their income.

“Offshore funds may make distributions gross of tax while distributions from onshore funds may be net of basic rate of tax. If investors receive distributions gross of tax, they have to make a declaration on their tax return.

“This adds a layer of administration. If platforms could identify which funds pay gross and which net and what needs to be done, it would make it easier for advisers and clients to buy offshore funds.

“At the end of this process, the tax treatment of offshore and onshore funds is virtually the same but there may be more administration with offshore funds.”

Another important factor would be to include offshore funds in performance tables. The IMA has been working on including offshore funds in its sectors, which would allow investors to make comparisons between the performance of onshore and offshore funds but it is uncertain when this will begin.

Clark says the research conducted for HSBC revealed that more than half of the interviewees said a lack of information was a key barrier to investment. Of 50 participants polled, 26 highlighted the lack of information as the key reason compared with 20 who cited regulation and tax issues and 14 who pointed to high charges.

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